FX SCHOOL (4iii) : TA Tools - Indicators

Forex School & Education

We are now going to take a more in-depth look at the different indicators which can help us in our trading. The main reason why people use indicators is to remove any “noise” from the market, i.e. to obtain a smooth visual representation of price, without us having to monitor, assess and analyze every single candlestick.

Now, there are literally hundreds of different indicators that can be applied, however, we will simply be focusing on a few default indicators and how to use them.

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The Moving Average

In its simplest form, the Moving Average is a squiggly line that runs across the chart. It’s actually probably the most frequently used indicator in technical analysis, and it shows the average value of a currency’s price over a set time period. It is often used to measure momentum and the general trend/direction of the market. In the example below, the blue line is the moving average.

As you can see, the blue MA gives us a smooth representation of price, i.e. without all the choppiness. What the blue MA line is basically telling us is: The steeper the line is heading down, the more bearish the market is, and the steeper the line is heading up, the more bullish the market is. Although it seems very basic, a lot of traders use the MA to help them in being able to gauge the market. (Some even use a varying form of MA to identify Support and Resistance levels.)

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MACD

MACD is a special type of Moving Average, which stands for “Moving Average Convergence Divergence”. This indicator can be used as an entry trigger, since there are actually two moving averages which are used.

As can be seen above, when a “cross-over” occurs, a trader may enter on this crossing over. So, at point 1, if using this MACD indicator exclusively, then one could “go long” here, i.e. buy. At point 2, one could “go short”, i.e. sell. And so on and so forth.

There are other ways in which MACD can be used, but we won’t be discussing those here, although the above method is probably the most widely used.

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Awesome Oscillator (AO)

The Awesome Oscillator (AO) technical indicator was invented by a man named Bill Williams, who is the author of the “Chaos Trading System”. The Awesome Oscillator is in the form of a histogram and is essentially a visual representation of the market’s driving force at the present moment, using a combination of color (red or green), length (of the actual red/green line), and level (above or below the zero line).

As you can see, in general, the AO turns green when price is moving up, and turns red when price is moving down. There is also a “zero line”, if the AO crosses this line, it can imply there is strength in the trend.

Sometimes the AO may display a series of green-red-green-red bars. This usually means there is no clear market direction.

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Parabolic Stop and Reverse (PSAR)

The PSAR indicator is used to determine good exit and entry points; and whether to stay in a trade or not. It may be the case that we’re already in a trade, (before applying the PSAR to our chart), and so once we apply it, it may give us a better idea of whether to exit or stay in.

PSAR is displayed as a series of dots, either above or beneath the candlesticks. So for every candlestick, there is a dot, (whether it’s above or below).

If the candlestick is above the blue dots, it can indicate to us that the trend is heading up (bullish trend), and if the candlestick is below the blue dots, it’s an indication that price may be heading down (bearish trend). PSAR dots also “accelerate” or “decelerate”, meaning the spacing between dots may increase or decrease. This increase or decrease of space is also another method in using the PSAR.

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This now sums up the section on Technical Analysis. As you have seen, there are two main types of TA: “Price Action” and “Indicators”. This is by no means comprehensive, but rather a simply a gist of a few of the TA methods that can be used. As you start trading, you will slowly start to implement some of the techniques outlined above, and get a feel for the movement of the market.